Today's HMO Carnage on Wall Street

Maybe times have been just too good for so long that people have forgotten just what a challenging business this can be.

After easy profits for the industry during a multi-year period when trend rates fell, today Wellpoint let us know nothing can be taken for granted.

When the trend rate is steadily falling a monkey can make money. If an employer sees their claims go up by 9% the year before, it's pretty easy to sell them a 9% rate increase even though actual trend maybe 8%--thereby creating a one point windfall. That had been the case for five years--up until 2007. That's why earnings reports at Wellpoint, and other HMOs, had been full of comments referring to their being able to renew business at levels higher than actual claim costs and to be able to take down even more profits from "favorable development" in prior periods.

The last year or so, we have hit a sort of health care trend bottom. Trend hasn't been rising but it hasn't been falling either. Unlike the prior years, you actually have to hit your numbers. The result has been medical cost ratios (adjusted for business mix) by all of the companies that have been clustered close together varying by no more than the usual margin for error in pricing.

With a small margin for error, missing your numbers can cause problems--especially when analysts watch every nuance and don't like to be embarrassed when you miss that margin for error as Wellpoint said today it is going to do. The analysts aren't about to tell investors they don't really understand this business and its risks so they end up putting all the blame on management and the punishment is, and will be, harsh.

The analysts were surprised to today.

Anyone who has been in this business for a while was not surprised.

The wheels are not coming off and fixing this type of problem is really pretty easy. Management can clearly see the pricing errors and respond over the next renewal cycle. In 18 months, someone at Wellpoint will be the new darling of Wall Street for turning it around. (The easiest job in this business is inheriting an operation already in the dumpster--the hardest job is keeping it out of one.)

Welcome to the health insurance business at a time when you can't count on windfalls!